A common theme in 2016 SEC Foreign Corrupt Practices Act enforcement actions has been foreign subsidiaries (often in China) engaging in conduct without the knowledge of the parent company, the subsidiary taking steps to conceal the conduct from the parent company, yet in what amounts to strict liability, the SEC holding the parent company liable for books and records and internal control violations.
The SEC returned to this theme yesterday in this administrative action  against Nu Skin Enterprises Inc., a Utah based company in the business of manufacturing and marketing cosmetic and nutritional products primarily through direct selling, or multi-level marketing, channels.
In summary fashion, the SEC’s order states:
“This matter concerns the failure of Nu Skin US to devise and maintain a reasonable system of internal accounting controls over its subsidiary’s operations in the People’s Republic of China in 2013. As a result, One Million RMB (approximately $154,000) was transferred to a charity to obtain the influence of a high-ranking Chinese Communist party official (the “Party Official”) to impact an on-going provincial agency investigation. Nu Skin China inaccurately and/or unfairly described the purpose of the payment to the charity in its books and records as a donation rather than an improper payment to obtain the Party Official’s influence. As a result of this conduct, Nu Skin US violated the internal controls and books and records provisions of the FCPA.”
Nu Skin China is described as a wholly-owned subsidiary of Nu Skin US that was incorporated in China and headquartered in Shanghai.
Under the heading “Nu Skin China and the Provincial Agency Investigation,” the Order states:
“The laws and regulations applicable to direct selling in China (the “Direct Selling Laws”) prohibit the multi-level commission structure employed by Nu Skin US domestically. Instead, Nu Skin China has to consummate its sales primarily through retail stores, where its sales transactions are processed even if the products in question were promoted through offsite meetings. In addition, while Nu Skin China’s sales representatives receive performance-based salaries that are recalibrated periodically, they do not receive direct commissions based on the sales of other representatives they referred to the company.
Moreover, the Direct Selling Laws provide that before a direct selling business such as Nu Skin China can operate within a particular geographic area in China, the company must receive direct selling licenses at the national, provincial, and city levels. These direct selling licenses are conditioned on a number of factors, which typically include the business reputation of the applicant.
In 2013, sales representatives of Nu Skin China held an unauthorized promotional meeting in a city in which, at the time, Nu Skin China neither possessed a direct selling license nor had a physical store. Representatives of the province’s Administration of Industry and Commerce (“AIC”) discovered the meeting and initiated an investigation of Nu Skin China. Following the initial investigation, the AIC informed Nu Skin China that it had gathered enough information to support violations of the Direct Selling Laws against the company for the unauthorized activities of its sales representatives.
Certain Nu Skin China personnel were concerned that a direct action against the company by the AIC would impact its long term business development, including not being able to obtain a direct selling license in the province in the near future.”
Under the heading “The Charity Payment,” the Order states:
“Concerned about the AIC investigation, certain Nu Skin China personnel decided to initiate a charity project in the province in order to affect the outcome of the investigation. A Nu Skin China employee contacted the Party Official, who was his acquaintance, to suggest a charity located in the province. The Party Official had a pending request to Nu Skin China to facilitate obtaining college recommendation letters to U.S. universities from an influential U.S. person for his child. The Party Official proposed a charity, although at the time a branch of the charity had not yet been established in the province and it had no operations there. The Party Official, however, was associated with the entity that was responsible for establishing the charity in the province. Further, the provincial head of the AIC had previously reported to the Party Official.
A week later, the AIC informed Nu Skin China that the AIC intended to charge Nu Skin China and certain of its sales staff with Direct Selling Law violations and to impose a fine against the company in the amount of 2.8 Million RMB (approximately $431,088). In response, as reflected in an internal email, Nu Skin China informed the AIC of Nu Skin China’s desire to reach an outcome in which the company was not charged and to “donate some money instead of a fine.”
Senior personnel of Nu Skin China then made a decision to request that the Party Official personally intervene in the AIC matter in return for Nu Skin China making a One Million RMB donation to the charity identified by the Party Official.
As further indicia of the improper purpose for the payment to the charity to obtain the Party Official’s influence with the AIC investigation, Nu Skin China also requested that Nu Skin US expedite getting college recommendation letters for the Party Official’s child. While the Party Official’s original request for the letters had been made prior to the AIC investigation, the request had not yet yielded results. But following the decision to seek the Party Official’s assistance, as reflected in internal emails, the request for the recommendation letters was elevated to “top priority” as it was “becoming increasingly important” for Nu Skin China. Nu Skin US subsequently reported to Nu Skin China that it had secured an agreement from an influential U.S. person to write the college recommendation letters for the Party Official’s child.
Around the same time, the AIC reiterated its intention to charge Nu Skin China with violations of the Direct Selling Laws. Following this status update, Nu Skin China determined that a public donation signing ceremony for the charitable donation should be held in a matter of days.
Nu Skin China personnel had alerted Nu Skin US of the proposed donation, but failed to disclose the relationship between the donation and the AIC investigation, or the relationship between the request for recommendation letters and the AIC investigation. Nu Skin US, however, identified that a large donation in China could pose FCPA risks, so it advised Nu Skin China to consult with outside U.S. legal counsel based in China to ensure that the donation complied with the FCPA. Outside counsel, in turn, recommended that Nu Skin China include anti-corruption language, which included language regarding the illegality of influencing government officials, in the written donation agreement with the charity. That language was inserted into a draft of the donation agreement between Nu Skin China and the charity. The anticorruption language, however, was removed from the final version of the donation agreement that Nu Skin China executed. Nu Skin US was not aware that the language had been removed.
Approximately one week later, the donation ceremony was held in the province. A top official of the AIC, the Party Official, and representatives of Nu Skin China all attended the donation ceremony. At the ceremony, the Party Official gave a speech praising Nu Skin China. Furthermore, the day after the donation ceremony, a Nu Skin China employee suggested contacting the Party Official to request that Nu Skin China not be named or fined by the AIC. Internal emails reflect that Nu Skin China believed that such action was “crucial for us to settle this issue [the AIC investigation] peacefully.”
Two days later, Nu Skin China received notice of the AIC’s final decision in which the company was neither charged nor fined.
In Nu Skin China’s expenditure authorization form, the “[d]etailed [p]urpose” for the payment to the charity was inaccurately and/or unfairly described as a donation rather than a payment to influence the Party Official to favorably impact the outcome of the AIC investigation. Nu Skin US also did not devise and maintain a reasonable system of internal accounting controls over its subsidiary’s operations in China to ensure that transactions were recorded as necessary to maintain accountability for assets, particularly with regard to illicit payments through the guise of charitable donations. Specifically, given the well-known corruption risks in China, Nu Skin US did not ensure that adequate due diligence was conducted by Nu Skin China with respect to charitable donations to identify links to government or political party officials and to prevent payments intended to improperly influence such persons in violation of the company’s anticorruption policy and the FCPA.”
Based on the above, the SEC’s Order finds that Nu Skin violated:
- the books and records provisions “because, in its wholly-owned subsidiary’s expenditure authorization form, the purpose of the payment to the charity was inaccurately and/or unfairly described as a donation rather than an improper payment to obtain the Party Official’s influence” and
- the internal controls provisions “because it did not devise and maintain a reasonable system of internal accounting controls over operations in China to ensure that transactions were recorded as necessary to maintain accountability for assets and/or access to assets is permitted only in accordance with management’s general or specific authorization, particularly with regard to due diligence and controls surrounding foreign charitable donations.”
Without admitting or denying the SEC’s findings, Nu Skin agreed to pay $765,688 ($431,088 in disgorgement, prejudgment interest of $34,600, and a $300,000 civil money penalty).
The SEC’s Order states that “the Commission considered remedial acts promptly undertaken by [Nu Skin} and cooperation afforded the Commission staff.”